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Managerial Economics


BUSGR 510: Exam 1 2. Suppose I want to open my own restaurant. Currently I am working as a Financial Analyst at a top bank earning $175,000 a year, which I will have to quit to open a restaurant. I am also going to invest $100,000 of my savings which were earning an average annual rate of 6%. What is my opportunity cost(implicit cost) of opening the restaurant. 3. Suppose you can hire 10 workers for $12 each, but to hire the 11th worker you will have to pay all your workers $15 each. What is the marginal cost of hiring the 11th worker. 4. Briefly explain the term post investment holdup. Give an example. How can this problem be solved (Give any one brief solution) 5. ACME Coal paid $5000 to lease a railcar from the Reading Railroad Company. Under the terms of the lease, 50% of the payment made is refundable if the railcar is returned within two days of signing the lease. (a) Upon signing the lease and paying the $5000, how large are ACME’s fixed costs. What are its sunk costs? Explain briefly (b) One day after signing the lease, ACME realizes that it has no use for the railcar. However a farmer has a bumper crop of wheat and has offered, on the same day, to sublease the railcar from ACME at a price of $4500. Should ACME accept the offer? Explain why or why not. 6. East Side Corporation sells Tshirts in the wholesale market. The company has monthly fixed costs of $2000, and it sells the shirts for $5 per shirt. Its AVC and MC is $2.50 per Shirt. (a) How many Shirts will it have to sell in order to break even (b) Suppose the company wants to have profits of $20000. What monthly quantity will it have to sell to accomplish this. 7. Suppose a firm’s demand curve is given by P = 50 − 0.25Q. Find the (value of) price elasticity of demand for the demand curve when the price is $10. Is demand elastic or inelastic? 8. Suppose the marginal cost of production for a company is $6 at its current production levels. Suppose the price elasticity of demand is constant at 2 between prices of $10 to $15, if current prices are $10, is the company pricing at the correct optimal level? If not, should it increase or decrease prices and to what level? 9. In these two cases, you can use any example. (a) Explain what would happen to prices in a market equilibrium if there is an increase in the demand for a product. Give an example of a real life situation pertaining to this. (b) Explain what would happen to prices in a market equilibrium if there is an increase in the supply for a product. Give an example of a real life situation pertaining to this. 10. State Porters five forces. Give an example of a real life business situation in which the business has been able to act strategically to sustain a competitive advantage. 11. Download the file Starz.xls from Blackboard, and also Memo 1. Answer the questions in memo 1 you will need to do your work in the excel spreadsheet as well as provide a typed page of relevant explanations (about half a page double spaced), and submit both to me. To estimate the demand curve you need to perform a regression using excel. Open excel, go to tools, under tools go to data analysis and you should be able to see regression under that. If you dont see a data analysis option under tools, you will need to perform an add in refer to the document I have posted under assignments titled ”Instructions for Installing Analysis Toolpack”. Once you have this, in data analysis go to regression, this will open up a box under input y range, put (right click and highlight) in the price column including the header, under input x range put in the quantity(subscribers) column including the header, check labels, confidence level 95%, name a worksheet ply and click OK. You should see the results the constant is the intercept term of your demand equation, the coefficient with subscribers is your slope. Use this to calculate elasticities in excel. Answer all the questions in the memo. 12. Degree of Operating Leverage (DOL) is a ratio concept that gives management an idea of the effect on profits of a small change in quantity assuming that price, fixed cost and average variable costs remain the same. The formula for DOL = %_(profits) %_Q . %_(profits) can be written as _(profits) profits = _Q(P−AV C) Q(P−AV C)−FC .Thus DOL = Q(P−AV C) Q(P−AV C)−FC . (a) For a given price P=$5, AVC = $3 and FC=$20000, what is the DOL if the manufacturer is producing 15000 units? (b) Using the value of DOL calculated in (a) above, calculate the profits for a 10% increase and 10% decrease in quantity. (c) From the DOL formula, you can see that a manufacturing plant with higher fixed costs and lower variable costs will have a higher DOL relative to a plant with higher variable costs and lower fixed costs i.e. a capital intensive production process will have a higher DOL than a labor intensive process which means that a capital intensive production process will increase profits at a faster rate (relative to quantity) than a labor intensive process. Suppose a company is currently producing 1000 units of a bottled power drink priced at $5. It is using a manufacturing process with a fixed cost of $1450 and variable cost of $2.75 per unit (i.e. AVC). i. Calculate the DOL and the break even point for this production process. Is the company breaking even yet? ii. If the company installs updated machinery its fixed costs rise to $2000 and AVC drops to $2.25. Calculate the DOL and break even point. iii. At what production level should the company switch from the old machinery to the upgraded one?